Coinbase is one of the largest exchanges serving companies in the US when buying cryptocurrencies such as BTC and ETH. The San Francisco-based company currently has a group of former Wall Street executives working to solve one of the biggest problems in the cryptocurrency market. In other words, the lack of a full scale prime-broker.
In the case of the Wall Street market, so-called “brokers” sit between institutional investors, such as a hedge fund or money manager, and exchanges and other trading venues. Such operations are difficult to achieve in the world of cryptocurrency because the entry barriers are high.
However, Coinbase is trying to overcome these entry barriers of the cryptocurrency market. One example of this was that earlier this year it launched a prime broker business: Coinbase Prime. It joined a group of companies covering asset management, venture capital investment and retail trade.
As part of the business, the crypto firm is offering some of the services of a traditional primary brokerage firm, including the incorporation of large institutional clients and custody. And what's even newer is that Coinbase is also preparing to offer margin financing before the end of the current year.
All this would allow institutional investors to borrow money to negotiate. Which can help magnify yields, or leverage a short position. In the future, Coinbase's brokerage business may be able to help clients find the best place to conduct a trade. And this could be the case if you send it to a rival negotiating team, a service known as “best execution”.
The main brokers emerged in the equity markets in the early 1990s. At about the same time, the hedge fund industry began to take off.
Coinbase is carrying out a lot of different initiatives in cryptos that have a lot of meaning for traditional finance: escrow, financing, loans, guarantees, etc. To what Greenwich Associates consultant Richard Johnson said,
“They have the resources to fund them and will surely have some successes.”
The firm has already incorporated a $20 billion hedge fund through its core business, but more information on the fund as such is still unknown. Right now the team is working to raise other large hedge funds on its trading platform.
At the same time, the firm is actively building its teams in New York, Chicago, London and even Japan where it wants to expand its presence in the Asian continent. Coinbase hired Christine Sandler of the New York Exchange as institutional sales co-head, as well as Hunter Merghart of Barclays as sales trader manager.
According to Coinbase, the coalition of 12 banks brought in the $4.9 billion collection from their first quarter of 2018, the highest level in three years.
The lack of one from start to finish was one of the most important issues that stopped the big Wall Street companies from entering the cryptocurrency space. Having to self-finance at each exchange opens the firm to above-average risk on Wall Street. Without a main broker, commercial enterprises are directly subject to events in an exchange where they may suffer from hacks, regulatory, operational and technological problems, among many others. This can lead to the loss of cash and currency from the trading company.
This has happened during the year several times, including important exchanges such as Bithumb, in South Korea.
Bitcoin (BTC) was founded in the aftermath of the financial crisis as a peer-to-peer alternative financial system that would not use intermediaries such as Wall Street. Coinbase's entry into the institutional brokerage business also raises the red flags to some market observers.
“There are many potential conflicts of interest in such a vertically integrated model,” David Weisberger, a market structure specialist and CEO of CoinRoutes, said.
Horizontal Or Vertical Model?
The SEC has been keen to maintain strict barriers between different Wall Street businesses because of the various conflicts that may arise. In light of this, Weisberger said he was concerned about confidential trading information about who is trading and what funds are deposited in the accounts. Information that could be filtered and used to “color” trading partners.
Historically, institutional exchanges have taken steps to address the potential conflict of interest. For example, the NYSE Group sold Wave Securities, a brokerage unit, which acquired when it acquired Arca in 2005, after the SEC expressed concern about the conflicts.
“But right now, there's so many mature players, it is probably a good thing for Coinbase to do this because it is filling a much bigger gap,” said Kyle Tuskey, a former Wave technologist, and current COO of Deep Systems, a financial technology firm.
Since Coinbase is not a registered stock exchange, it is unclear whether the SEC would have the authority to intervene and create firewalls or ban the firm from operating such a business altogether. Robert Hockett, a professor of law at Cornell University, said
“it seems likely the SEC will take interest in Coinbase's intention to offer prime brokerage services.”